Jennifer Morrison's Source Page - Associated Content
http://www.associatedcontent.comuser/456705/jennifer_morrison.html
Thursday, July 16, 2009
Jennifer Morrison's Source Page - Associated Content
Thursday, May 28, 2009
Be Prepared for the Credit CARD Act
On May 22, 2009, President Obama signed the Credit Card Accountability, Responsibility and Disclosure Act (the Credit CARD Act) into law. The Credit CARD Act will be effective February 2010, bringing with it new consumer protections and particular challenges for credit card issuers.
The new Act comes at a time of particular stress for US credit card issuers. The rapid rise in delinquencies and charge-offs among their existing credit card portfolios has already cut into profits. Consumers and legislators have been consistently critical of the credit card issuers in this recession for cutting credit lines and raising interest rates on existing card borrowers in an effort to earn some returns in this environment, as well. Issuers like American Express are "paying the price" of their generous issuance practices 2 and 3 years ago with delinquency and loss rates that far out-strip the image of the American Express Card as a card held by only the highest credit-worthy borrower.
At the same time, the actions taken by the US credit card issuers since the onset of the recession portend improving metrics. Card issuers have actually reduced credit lines to their riskier borrowers therefore reducing the size of their future losses. American Express went so far as to offer $300 to certain cardholders to turn their American Express card back into the company. The higher rates of interest are also meant to help the issuers establish more of a financial reserve or cushion against future losses.
But the criticism has resulted in the Credit CARD Act. The Act largely mirrors actions already taken by the Federal Reserve to protect consumers against double-cycle billing, opaque cardholder rights, and the application of "universal default". The Congress chose to take the Fed's ideas and move up the timetable, adding more consumer protections along the way.
Among the changes, the Act prohibits the issuer practice of raising interest rates permanently on borrowers who are delinquent 60 or more days. If the delinquent borrower then pays on time for 6 straight months, the issuer must reinstate the lower rate. Along the line of interest rates, the Act also requires that initial low promotional rates must have a minimum 6 month duration and prohibits increased rates in the first year a cardholder has a new account.
A particularly good feature of the Act is the prohibition against issuers charging borrowers to pay by phone, mail, electronic transfer, or for online payments. The bill also features restrictions against issuing cards to individuals under the age of 21. This will effectively end the massive marketing effort by credit card issuers on college campuses. The scary trend has been the ever-increasing level of consumer debts some students have when they graduate college, on top of ever-increasing student loan burdens.
Credit card issuers may choose to adapt to the Act through a number of strategic changes. First, it will be likely that all cardholders will see an upward drift in interest rates on unpaid balances. Certainly before February 2010, issuers will try to establish some sort of baseline interest rate for the various tiers of credit risk they have in the card portfolio. It will also be likely to see fewer "no annual fee" cards. Because the Act prohibits some of the interest rate adjustments issuers currently have in their tool kit to adjust rates in line with changing cardholder credit risk, issuers will be more likely to seek alternative revenue sources.
Likely Page Break
It is also likely that borrowers will see their credit limits trimmed prior to the February enactment. Reducing credit availability in a recessionary period is tricky. It hurts retailers and fails to stimulate the economy, just when economic stimulus is needed. But it also reduces the upper limit for borrowers who are increasingly stressed by the same recession and helps cap potential losses for the issuers. It also may anger the same borrowers resulting in a backlash in the form of reduced repayment, even default. No one can say that the credit card issuers are not going to ultimately act in a manner that is most beneficial to their portfolio and shareholders.
Any new credit card issuance will likely be limited by more stringent underwriting. Again, driven by the need to reduce losses and expenses and due to the limitations the Act places on the ability of a credit card issuer to re-price risk as is done currently, card issuers will be stingier in their new issuance activity. That is probably good news if you hate all the credit card solicitation currently mass mailed to households across the US.
It is also widely expected that marketing and promotion budgets will be slashed in an effort to boost issuer profits. This includes rewards cards. It is widely expected that many of the most desirable benefits will be trimmed by many of the large issuers or will be limited to only the top credit scores.
While the Act has some strong benefits for cardholders, the Act will likely be a net negative for current cardholders who use their cards judiciously and pay their balances on time, in full each month. While these cardholders will likely not experience any of the negatives of a general rise in interest rates charged on the card (since they pay their balance monthly), these cardholders will likely see reduced cardholder benefits and the implementation of annual fees. These cardholders might even see their credit lines cut due the reduced spending activity seen across the economy due to the recession. The cardholders will not be rewarded for their responsible spending and prudence. Finally, these cardholders will probably see fewer promotions and less competition for their business. Ultimately, these borrowers will see the Act as a net negative.
At the same time, the prohibitions against marketing cards to college students without the means to repay is a strong positive in the Act. Further, there is some level of fairness within the Act that can make most cardholders (and Congressional voters) feel that the Act is a long-term net positive for the country.
The new Act comes at a time of particular stress for US credit card issuers. The rapid rise in delinquencies and charge-offs among their existing credit card portfolios has already cut into profits. Consumers and legislators have been consistently critical of the credit card issuers in this recession for cutting credit lines and raising interest rates on existing card borrowers in an effort to earn some returns in this environment, as well. Issuers like American Express are "paying the price" of their generous issuance practices 2 and 3 years ago with delinquency and loss rates that far out-strip the image of the American Express Card as a card held by only the highest credit-worthy borrower.
At the same time, the actions taken by the US credit card issuers since the onset of the recession portend improving metrics. Card issuers have actually reduced credit lines to their riskier borrowers therefore reducing the size of their future losses. American Express went so far as to offer $300 to certain cardholders to turn their American Express card back into the company. The higher rates of interest are also meant to help the issuers establish more of a financial reserve or cushion against future losses.
But the criticism has resulted in the Credit CARD Act. The Act largely mirrors actions already taken by the Federal Reserve to protect consumers against double-cycle billing, opaque cardholder rights, and the application of "universal default". The Congress chose to take the Fed's ideas and move up the timetable, adding more consumer protections along the way.
Among the changes, the Act prohibits the issuer practice of raising interest rates permanently on borrowers who are delinquent 60 or more days. If the delinquent borrower then pays on time for 6 straight months, the issuer must reinstate the lower rate. Along the line of interest rates, the Act also requires that initial low promotional rates must have a minimum 6 month duration and prohibits increased rates in the first year a cardholder has a new account.
A particularly good feature of the Act is the prohibition against issuers charging borrowers to pay by phone, mail, electronic transfer, or for online payments. The bill also features restrictions against issuing cards to individuals under the age of 21. This will effectively end the massive marketing effort by credit card issuers on college campuses. The scary trend has been the ever-increasing level of consumer debts some students have when they graduate college, on top of ever-increasing student loan burdens.
Credit card issuers may choose to adapt to the Act through a number of strategic changes. First, it will be likely that all cardholders will see an upward drift in interest rates on unpaid balances. Certainly before February 2010, issuers will try to establish some sort of baseline interest rate for the various tiers of credit risk they have in the card portfolio. It will also be likely to see fewer "no annual fee" cards. Because the Act prohibits some of the interest rate adjustments issuers currently have in their tool kit to adjust rates in line with changing cardholder credit risk, issuers will be more likely to seek alternative revenue sources.
Likely Page Break
It is also likely that borrowers will see their credit limits trimmed prior to the February enactment. Reducing credit availability in a recessionary period is tricky. It hurts retailers and fails to stimulate the economy, just when economic stimulus is needed. But it also reduces the upper limit for borrowers who are increasingly stressed by the same recession and helps cap potential losses for the issuers. It also may anger the same borrowers resulting in a backlash in the form of reduced repayment, even default. No one can say that the credit card issuers are not going to ultimately act in a manner that is most beneficial to their portfolio and shareholders.
Any new credit card issuance will likely be limited by more stringent underwriting. Again, driven by the need to reduce losses and expenses and due to the limitations the Act places on the ability of a credit card issuer to re-price risk as is done currently, card issuers will be stingier in their new issuance activity. That is probably good news if you hate all the credit card solicitation currently mass mailed to households across the US.
It is also widely expected that marketing and promotion budgets will be slashed in an effort to boost issuer profits. This includes rewards cards. It is widely expected that many of the most desirable benefits will be trimmed by many of the large issuers or will be limited to only the top credit scores.
While the Act has some strong benefits for cardholders, the Act will likely be a net negative for current cardholders who use their cards judiciously and pay their balances on time, in full each month. While these cardholders will likely not experience any of the negatives of a general rise in interest rates charged on the card (since they pay their balance monthly), these cardholders will likely see reduced cardholder benefits and the implementation of annual fees. These cardholders might even see their credit lines cut due the reduced spending activity seen across the economy due to the recession. The cardholders will not be rewarded for their responsible spending and prudence. Finally, these cardholders will probably see fewer promotions and less competition for their business. Ultimately, these borrowers will see the Act as a net negative.
At the same time, the prohibitions against marketing cards to college students without the means to repay is a strong positive in the Act. Further, there is some level of fairness within the Act that can make most cardholders (and Congressional voters) feel that the Act is a long-term net positive for the country.
Monday, May 4, 2009
Lessons Learned #1 - Diversification
In the coming weeks, I plan to write a series of thoughts on what we should have learned from the current financial crisis, keeping it direct and to the point. Lesson #1 is Diversification.
Diversification is defined as the process of reducing risk by spreading investment risks across various asset types and tenures. In the case of personal investments, diversification means, to use an old adage, "you don't have all your eggs in one basket". It essentially says a good investor does not get too greedy.
Asset types include stocks (equities), bonds, real estate, collectibles and antiques, and cash (or cash equivalents). A diversified investor has spread his/her invested dollars across many, if not all of these categories.
Diversification also speaks to the tenure or maturity of the investments. In the case of bonds or certificates of deposit, a diversified investor has "laddered" or structured his/her principal repayments so that all of the money is not repaid all at one time. This helps manage interest rate risk or the risk that the investor has too much of his/her money come due in the same period of rising or declining rates. In other words, you do not want all of your investments to re-price at the same time.
A diversified investor has also considered liquidity. Liquidity speaks to the time it takes to convert the asset into cash, particularly in the event of an emergency. A diversified investor has some less liquid investments like their home and some very liquid investments like cash in their portfolio.
Let's use the Madoff fund as an example. The investors reportedly obtained a near-12% return routinely, despite the regular gyrations of the stock and bond markets over time. Investors with Madoff often put all of their invested dollars with Mr. Madoff (or increased their concentration of investments with him) because of the high rate of return and its consistency. In the future, I will talk about the lesson that "if it appears too good to be true, it is", but as investors increasingly over-weighted their investments with Madoff due to his routinely high returns, the same investors were later burned by their lack of diversification. While sympathetic to the widows moving in with their children because their nest egg is now lost, the lack of diversification is in part a flaw in the victim's investment strategy that helped Mr. Madoff destroy all of his investor's net worth in many unfortunate cases.
Will diversification then lead to lower returns? It might in the short run. A mix of bonds and equities is desired in any investment portfolio. Over time, bonds have been outperformed by equities because there is greater risk associated with equities and therefore, at times, they pay higher returns (or else no one would buy a stock). Bonds pay lower returns because, in the case of a bond issuer's bankruptcy or default, the bondholders get repaid with any remaining funds in a business before equity holders. Therefore, the probability a bondholder gets nothing for an investment, even in default, is lower than the probability a stock goes to essentially $0. Bonds also pay interest, a form of return, unless the bond issuer defaults. Stocks may pay dividends, though dividends are not guaranteed.
Diversification should match your age group and/or your investment goals. A young person with 35-40 years of employment earnings ahead of him/her can take more risk because he/she can earn money lost in the markets over their remaining working lives. A person in retirement may have no sources of income outside of pension and social security and a shorter expected remaining lifetime. There might not be time to earn money lost in the stock market, even in a soaring stock market. I think of my in-laws who had a money manager who had them too focused on equities. Last fall, they lost a quarter of a million dollars in their investment portfolio because not only did he have them too focused on the stock market, but he also had them focused on bank stocks.
Not only should there be a mix of bonds and equity, but there should be a mix of different kinds of industries among the bonds and stocks an investor holds. Jim Cramer does a skit on his Mad Money show about "am I diversified?" While cartoonish, the lesson is a good one. If you own 5 stocks in your portfolio, each should represent a different industry - for example, a bank stock, an industrial company's stock, a tech stock, a healthcare stock, and maybe an agricultural company's stock. On a macroeconomic basis, the stock market will move up or down en masse often, however, there will be stocks that do better than others so the investor will get a range of outcomes.
Liquidity is also increasingly important today because banks are not lending. A main source of liquidity for many is their credit card(s). If you had a major bill, like an unexpected medical expense, you would probably pull out a credit card to pay. Given the recent moves by Congress to rein in a number of questionable practices by credit card issuers to adjust fees, interest rates, billing cycles, etc. in response to changes in a card holder's financial situation (or the issuers' assessment of the change in risk), credit card issuers will likely reduce their mass marketing of credit cards and/or will charge higher rates, offer lower credit lines, and will increase annual fees on a proactive basis in advance of the enactment of the legislation. Many consumers report having their lines cut already. Will you be able to turn to your credit card in an emergency? If not, do you have cash savings (or investments that you could and would sell to raise money) for an emergency? Most do not have 3-6 months of income saved for a "rainy day".
Liquid assets do not need to be cash - they could be "in the money" stocks, CDs, savings accounts, money market accounts, and other items that can be sold within a day or two. And some might be sold at a small loss - but that is a price for liquidity.
Real estate and collectibles are examples of non-liquid assets, for the most part. There is a market for real estate and there are places, like flea markets and antique dealers, where you can sell your grandmother's hutch for cash, but some planning is involved and a hurried sale could result in a greater opportunity for a loss on the investment. A "quick sale" is a method of selling a house in order to discharge part of a mortgage. This is an alternative to foreclosure but typically, because the sale is in haste, the sale amount does not cover the mortgage balance. A more deliberative sale could allow the seller the time to select the bid that more closely approximates the value the seller has placed on the home - even if it takes years.
One lesson learned from the financial crisis is diversification. A smart investor will regularly review his/her portfolio to ensure that all of the goals of diversification are met - no undue concentration in any asset type, in any tenure of investment, and in any investment sector - and a consideration of liquidity in investments. There is no one "right or wrong" answer for an investor but diversification should keep in mind possible losses and the remaining time the investor has to recover losses.
Post your comments/questions!
Diversification is defined as the process of reducing risk by spreading investment risks across various asset types and tenures. In the case of personal investments, diversification means, to use an old adage, "you don't have all your eggs in one basket". It essentially says a good investor does not get too greedy.
Asset types include stocks (equities), bonds, real estate, collectibles and antiques, and cash (or cash equivalents). A diversified investor has spread his/her invested dollars across many, if not all of these categories.
Diversification also speaks to the tenure or maturity of the investments. In the case of bonds or certificates of deposit, a diversified investor has "laddered" or structured his/her principal repayments so that all of the money is not repaid all at one time. This helps manage interest rate risk or the risk that the investor has too much of his/her money come due in the same period of rising or declining rates. In other words, you do not want all of your investments to re-price at the same time.
A diversified investor has also considered liquidity. Liquidity speaks to the time it takes to convert the asset into cash, particularly in the event of an emergency. A diversified investor has some less liquid investments like their home and some very liquid investments like cash in their portfolio.
Let's use the Madoff fund as an example. The investors reportedly obtained a near-12% return routinely, despite the regular gyrations of the stock and bond markets over time. Investors with Madoff often put all of their invested dollars with Mr. Madoff (or increased their concentration of investments with him) because of the high rate of return and its consistency. In the future, I will talk about the lesson that "if it appears too good to be true, it is", but as investors increasingly over-weighted their investments with Madoff due to his routinely high returns, the same investors were later burned by their lack of diversification. While sympathetic to the widows moving in with their children because their nest egg is now lost, the lack of diversification is in part a flaw in the victim's investment strategy that helped Mr. Madoff destroy all of his investor's net worth in many unfortunate cases.
Will diversification then lead to lower returns? It might in the short run. A mix of bonds and equities is desired in any investment portfolio. Over time, bonds have been outperformed by equities because there is greater risk associated with equities and therefore, at times, they pay higher returns (or else no one would buy a stock). Bonds pay lower returns because, in the case of a bond issuer's bankruptcy or default, the bondholders get repaid with any remaining funds in a business before equity holders. Therefore, the probability a bondholder gets nothing for an investment, even in default, is lower than the probability a stock goes to essentially $0. Bonds also pay interest, a form of return, unless the bond issuer defaults. Stocks may pay dividends, though dividends are not guaranteed.
Diversification should match your age group and/or your investment goals. A young person with 35-40 years of employment earnings ahead of him/her can take more risk because he/she can earn money lost in the markets over their remaining working lives. A person in retirement may have no sources of income outside of pension and social security and a shorter expected remaining lifetime. There might not be time to earn money lost in the stock market, even in a soaring stock market. I think of my in-laws who had a money manager who had them too focused on equities. Last fall, they lost a quarter of a million dollars in their investment portfolio because not only did he have them too focused on the stock market, but he also had them focused on bank stocks.
Not only should there be a mix of bonds and equity, but there should be a mix of different kinds of industries among the bonds and stocks an investor holds. Jim Cramer does a skit on his Mad Money show about "am I diversified?" While cartoonish, the lesson is a good one. If you own 5 stocks in your portfolio, each should represent a different industry - for example, a bank stock, an industrial company's stock, a tech stock, a healthcare stock, and maybe an agricultural company's stock. On a macroeconomic basis, the stock market will move up or down en masse often, however, there will be stocks that do better than others so the investor will get a range of outcomes.
Liquidity is also increasingly important today because banks are not lending. A main source of liquidity for many is their credit card(s). If you had a major bill, like an unexpected medical expense, you would probably pull out a credit card to pay. Given the recent moves by Congress to rein in a number of questionable practices by credit card issuers to adjust fees, interest rates, billing cycles, etc. in response to changes in a card holder's financial situation (or the issuers' assessment of the change in risk), credit card issuers will likely reduce their mass marketing of credit cards and/or will charge higher rates, offer lower credit lines, and will increase annual fees on a proactive basis in advance of the enactment of the legislation. Many consumers report having their lines cut already. Will you be able to turn to your credit card in an emergency? If not, do you have cash savings (or investments that you could and would sell to raise money) for an emergency? Most do not have 3-6 months of income saved for a "rainy day".
Liquid assets do not need to be cash - they could be "in the money" stocks, CDs, savings accounts, money market accounts, and other items that can be sold within a day or two. And some might be sold at a small loss - but that is a price for liquidity.
Real estate and collectibles are examples of non-liquid assets, for the most part. There is a market for real estate and there are places, like flea markets and antique dealers, where you can sell your grandmother's hutch for cash, but some planning is involved and a hurried sale could result in a greater opportunity for a loss on the investment. A "quick sale" is a method of selling a house in order to discharge part of a mortgage. This is an alternative to foreclosure but typically, because the sale is in haste, the sale amount does not cover the mortgage balance. A more deliberative sale could allow the seller the time to select the bid that more closely approximates the value the seller has placed on the home - even if it takes years.
One lesson learned from the financial crisis is diversification. A smart investor will regularly review his/her portfolio to ensure that all of the goals of diversification are met - no undue concentration in any asset type, in any tenure of investment, and in any investment sector - and a consideration of liquidity in investments. There is no one "right or wrong" answer for an investor but diversification should keep in mind possible losses and the remaining time the investor has to recover losses.
Post your comments/questions!
Thursday, April 9, 2009
Buy Now, By Now
Do I Buy Now ... or Wait?
Common sense tells us to buy low, sell high and that applies not only to the stock market but to real estate. What separates an investment in stocks from an investment in real estate is that real estate has "utility". Utility means that your home is more than an asset that may increase in value, it provides shelter (assuming it is not an investment property).
Everything is in place to spark a real estate boom ... mortgage interest rates are low, sellers are motivated, housing inventory is available. Everything is in place ... everything except buyers.
So, should you buy now?
Mortgage interest rates are at historic lows and the Fed has announced that it will continue to intervene in the markets, buying mortgage-backed bonds, in order to keep mortgage rates low for some time. That tends to tell buyers that they have time ... and can wait.
The availability of mortgage loans is not great right now, but if you are a conforming "buyer" - i.e., a buyer with 20% down, looking for 30-year fixed rate financing, most financial institutions can get you financed through Fannie Mae or Freddie Mac, taking no real risk on their balance sheet. Financial institutions should be willing to do this all day, all night. They sell the loan to the agency and maintain liquidity and take no credit risk.
Now, if you are a buyer who is "outside the guidelines", good luck. Jumbo mortgage financing is tough to come by. If you do not have money down, you might look at FHA, if you qualify. You might also try a credit union in your area. Many are lending, though most like conforming mortgages too. Most mortgage companies went out of business over the past 2 years so there's not a lot out there for you. No stated income products, no subprime mortgage products.
The availability of housing inventory is very high, particularly in areas where there have been a number of foreclosures. And despite the media, housing is regional and some regions have suffered more housing loss than others. The CA and FL markets have suffered the most, along with markets in and around Atlanta, Washington DC, Phoenix, and Las Vegas. And that inventory is cheap. Check the weekend newspapers (or their online sites) for public sale notices and go to a couple of auctions. You will get the flavor for how an auction works and for the distressed prices for homes in your desired area. You can also search websites that list foreclosed properties. You might also choose to work with a real estate agent who can advise you on home values (normal and current) and can give you good advice on the best neighborhoods, the best schools, the best resale values (normal), etc. Do your homework. This downturn in housing is not likely to resolve itself in the near term. You have time.
Which brings me to the problem with buying now ... and the hesitancy of many to jump into the market. The housing cycle is not due to recover in the near term. So why jump in now? Why hurry?
Deutsche Bank Global Markets Research and its Research Team, including analyst Karen Weaver, published at the end of March 2009 a round-up on the housing outlook across the US including a breakdown of the various regions of the country. Using affordability, Deutsche Bank had put together many publications on housing (Ms. Weaver called the housing bubble about 2 years before it burst) calling the continued rise in values unsustainable. Now, Deutsche Bank has augmented its analysis to include additional variables: unemployment, unemployment change, distressed inventory levels, and momentum.
Based on their analysis, a number of housing markets are ripe for a return to positive values. Markets like Dallas, Santa Barbara, Fort Worth, Kansas City, Nashville, Columbus, San Antonio, Pittsburgh, Louisville, Boulder, and Fort Collins show signs that real estate values are at or near a bottom, show signs that distressed inventories of housing are manageable, and show signs that job losses are flat. If you are looking at these markets, now might be the time to buy. Sure, values could go lower, but housing affordability measures tell us from the Deutsche Bank analysis that an equilibrium has been restored where a historic average number of homeowners in that market can afford a mortgage. Now, there are no guarantees but ...
It is also conceivable in markets with a large inventory of distressed housing, that it might also be a great time to buy. On www.cnbc.com on 4/9/09, there was an article featuring stories of new homeowners snapping up Miami condominiums. The report shows that there are bargains in many of these distressed markets. To buy these homes, you need to secure financing (and the cnbc.com article did a good job talking about the condo financing challenges) and you need to have a longer time horizon. If you think that the condo you bought for $85,000 that was $410,000 4 years ago will be $410,000 again, any time soon, you may need your head examined. But, if you love the place (and can put in a little or a lot of work) and plan to stay put for 3-5 years, buying a foreclosure is a great idea. It might also be a great idea if you are shopping for a second home. Many distressed properties are in traditional vacation locales - Miami, Ft. Lauderdale, Naples, Ft. Myers, San Diego, Hilton Head. Again, if you are looking for a second home that you might rent out for the next 5 years and perhaps move to in retirement, why not get a great deal today.
So, why are buyers still on the sidelines? Fear ... fear that they will lose their job in the near term. That tends to keep buyers' hands in their pockets and their hands holding tightly on their pocketbook. Fear that "things will get worse". A record level of cash is on the balance sheet of financial institutions right now. They are fearful to lend. A record amount of cash was pulled out of the stock market last fall and remains on the sidelines. Yes, a stock can go to $0 - you can lose all of your money. Housing will never go to zero as long as there is a piece of land, but recent history has shown that you can lose part of your investment. What if I buy a house and lose my job? What if I have to move to take a new job? What if I can't sell my house for what I paid for it when I have to move? These are real fears.
What will restore housing? In some markets, there is stability. There are buyers because the employment picture is relatively stable. The other pieces are generally there ... mortgage rates, housing inventory, desirable neighborhoods. We need to end the cycle of fear.
Buy a house.
Common sense tells us to buy low, sell high and that applies not only to the stock market but to real estate. What separates an investment in stocks from an investment in real estate is that real estate has "utility". Utility means that your home is more than an asset that may increase in value, it provides shelter (assuming it is not an investment property).
Everything is in place to spark a real estate boom ... mortgage interest rates are low, sellers are motivated, housing inventory is available. Everything is in place ... everything except buyers.
So, should you buy now?
Mortgage interest rates are at historic lows and the Fed has announced that it will continue to intervene in the markets, buying mortgage-backed bonds, in order to keep mortgage rates low for some time. That tends to tell buyers that they have time ... and can wait.
The availability of mortgage loans is not great right now, but if you are a conforming "buyer" - i.e., a buyer with 20% down, looking for 30-year fixed rate financing, most financial institutions can get you financed through Fannie Mae or Freddie Mac, taking no real risk on their balance sheet. Financial institutions should be willing to do this all day, all night. They sell the loan to the agency and maintain liquidity and take no credit risk.
Now, if you are a buyer who is "outside the guidelines", good luck. Jumbo mortgage financing is tough to come by. If you do not have money down, you might look at FHA, if you qualify. You might also try a credit union in your area. Many are lending, though most like conforming mortgages too. Most mortgage companies went out of business over the past 2 years so there's not a lot out there for you. No stated income products, no subprime mortgage products.
The availability of housing inventory is very high, particularly in areas where there have been a number of foreclosures. And despite the media, housing is regional and some regions have suffered more housing loss than others. The CA and FL markets have suffered the most, along with markets in and around Atlanta, Washington DC, Phoenix, and Las Vegas. And that inventory is cheap. Check the weekend newspapers (or their online sites) for public sale notices and go to a couple of auctions. You will get the flavor for how an auction works and for the distressed prices for homes in your desired area. You can also search websites that list foreclosed properties. You might also choose to work with a real estate agent who can advise you on home values (normal and current) and can give you good advice on the best neighborhoods, the best schools, the best resale values (normal), etc. Do your homework. This downturn in housing is not likely to resolve itself in the near term. You have time.
Which brings me to the problem with buying now ... and the hesitancy of many to jump into the market. The housing cycle is not due to recover in the near term. So why jump in now? Why hurry?
Deutsche Bank Global Markets Research and its Research Team, including analyst Karen Weaver, published at the end of March 2009 a round-up on the housing outlook across the US including a breakdown of the various regions of the country. Using affordability, Deutsche Bank had put together many publications on housing (Ms. Weaver called the housing bubble about 2 years before it burst) calling the continued rise in values unsustainable. Now, Deutsche Bank has augmented its analysis to include additional variables: unemployment, unemployment change, distressed inventory levels, and momentum.
Based on their analysis, a number of housing markets are ripe for a return to positive values. Markets like Dallas, Santa Barbara, Fort Worth, Kansas City, Nashville, Columbus, San Antonio, Pittsburgh, Louisville, Boulder, and Fort Collins show signs that real estate values are at or near a bottom, show signs that distressed inventories of housing are manageable, and show signs that job losses are flat. If you are looking at these markets, now might be the time to buy. Sure, values could go lower, but housing affordability measures tell us from the Deutsche Bank analysis that an equilibrium has been restored where a historic average number of homeowners in that market can afford a mortgage. Now, there are no guarantees but ...
It is also conceivable in markets with a large inventory of distressed housing, that it might also be a great time to buy. On www.cnbc.com on 4/9/09, there was an article featuring stories of new homeowners snapping up Miami condominiums. The report shows that there are bargains in many of these distressed markets. To buy these homes, you need to secure financing (and the cnbc.com article did a good job talking about the condo financing challenges) and you need to have a longer time horizon. If you think that the condo you bought for $85,000 that was $410,000 4 years ago will be $410,000 again, any time soon, you may need your head examined. But, if you love the place (and can put in a little or a lot of work) and plan to stay put for 3-5 years, buying a foreclosure is a great idea. It might also be a great idea if you are shopping for a second home. Many distressed properties are in traditional vacation locales - Miami, Ft. Lauderdale, Naples, Ft. Myers, San Diego, Hilton Head. Again, if you are looking for a second home that you might rent out for the next 5 years and perhaps move to in retirement, why not get a great deal today.
So, why are buyers still on the sidelines? Fear ... fear that they will lose their job in the near term. That tends to keep buyers' hands in their pockets and their hands holding tightly on their pocketbook. Fear that "things will get worse". A record level of cash is on the balance sheet of financial institutions right now. They are fearful to lend. A record amount of cash was pulled out of the stock market last fall and remains on the sidelines. Yes, a stock can go to $0 - you can lose all of your money. Housing will never go to zero as long as there is a piece of land, but recent history has shown that you can lose part of your investment. What if I buy a house and lose my job? What if I have to move to take a new job? What if I can't sell my house for what I paid for it when I have to move? These are real fears.
What will restore housing? In some markets, there is stability. There are buyers because the employment picture is relatively stable. The other pieces are generally there ... mortgage rates, housing inventory, desirable neighborhoods. We need to end the cycle of fear.
Buy a house.
Thursday, March 26, 2009
What's With the Bonuses Anyway?
Did you read the 3/25/09 Op-Ed in the NY Times "Dear A.I.G., I Quit!" Make sure you do. What a wonderful piece about the real scandal at AIG. The scandal that the few can make life miserable for the masses and that the masses (or the majority of employees at AIG) are completely innocent of wrong-doing!
The concept behind a bonus, or any kind of incentive pay system for that matter, is a combination of pay-for-play and reward. In this case, the staff in the AIG-FP department in this case was to be paid for their valued services to unwind and ultimately sell a part of the failed business. As the writer so eloquently stated, his department was immensely profitable and had hit profit targets year after year.
In most cases, a business that does not make its overall sales goals or profit goals should not pay out bonuses at all. I think we all get that. But what is buried in all this self-righteous posturing by Congress is that there are real people involved with real families and real responsibilities who, in good faith, negotiated deals with AIG to perform specific tasks for a reward. Now that reward is taken from them - and all because Cuomo in NY, Congress in DC, and various governmental talking heads refuse to dig into the details and refuse to honor contract law.
Believe me, there is no way AIG management (Mr. Liddy) thought that AIG would be profitable in March 2009 when the contracts were struck. In fact, I'm certain he was nearly 100% certain that AIG had substantial losses remaining. But he also knew that there were hard-working individuals who could contribute to repaying the taxpayers the monies borrowed by AIG sooner, as opposed to later. Retaining certain key individuals was infinitely beneficial to hiring anyone from outside - even if that outsider had the same skill set. It would take anyone hired from outside, assuming they could be quickly hired and acclimated, much longer to more ahead with the plans to sell off profitable AIG assets. Can anyone honestly say that those who contributed in this manner should not be rewarded?
Bonuses have always been about reward - bettering a sales target, profits in excess of plan, etc. Can anyone in Congress simply look at a dollar amount and say that those underlying individual payments are or are not warranted? No. Let's be serious. I doubt Congress as individual even understood the various business units that combine(d) to make AIG, the conglomerate.
We can all debate the merits of the steps Treasury et.al. have taken with regard to AIG. But what has been missed in all this is a corporation like AIG is made up of a critical and scarce resource: many talented people who gave 12 hour days to making their slice of the company successful. Let's all remember that when we condemn these high payouts ... one of those paid or not paid may be someone you know the next time. It might be you!
Send your comments and questions, as always!
The concept behind a bonus, or any kind of incentive pay system for that matter, is a combination of pay-for-play and reward. In this case, the staff in the AIG-FP department in this case was to be paid for their valued services to unwind and ultimately sell a part of the failed business. As the writer so eloquently stated, his department was immensely profitable and had hit profit targets year after year.
In most cases, a business that does not make its overall sales goals or profit goals should not pay out bonuses at all. I think we all get that. But what is buried in all this self-righteous posturing by Congress is that there are real people involved with real families and real responsibilities who, in good faith, negotiated deals with AIG to perform specific tasks for a reward. Now that reward is taken from them - and all because Cuomo in NY, Congress in DC, and various governmental talking heads refuse to dig into the details and refuse to honor contract law.
Believe me, there is no way AIG management (Mr. Liddy) thought that AIG would be profitable in March 2009 when the contracts were struck. In fact, I'm certain he was nearly 100% certain that AIG had substantial losses remaining. But he also knew that there were hard-working individuals who could contribute to repaying the taxpayers the monies borrowed by AIG sooner, as opposed to later. Retaining certain key individuals was infinitely beneficial to hiring anyone from outside - even if that outsider had the same skill set. It would take anyone hired from outside, assuming they could be quickly hired and acclimated, much longer to more ahead with the plans to sell off profitable AIG assets. Can anyone honestly say that those who contributed in this manner should not be rewarded?
Bonuses have always been about reward - bettering a sales target, profits in excess of plan, etc. Can anyone in Congress simply look at a dollar amount and say that those underlying individual payments are or are not warranted? No. Let's be serious. I doubt Congress as individual even understood the various business units that combine(d) to make AIG, the conglomerate.
We can all debate the merits of the steps Treasury et.al. have taken with regard to AIG. But what has been missed in all this is a corporation like AIG is made up of a critical and scarce resource: many talented people who gave 12 hour days to making their slice of the company successful. Let's all remember that when we condemn these high payouts ... one of those paid or not paid may be someone you know the next time. It might be you!
Send your comments and questions, as always!
Tuesday, March 17, 2009
How Much Cash?
Watch any media coverage of business right now and you can't help but notice that "cash is king"!
Okay, there's nothing new in that mantra. It is always wise as a family or as an individual to have access to emergency cash. But, how much cash is enough? And, does that mean having cash in the mattress? What's safe?
The typical adage about cash is to have somewhere between 3 and 6 months worth of cash on hand ... meaning accessible. But, you really need to look at your monthly bills and the stability of your job (or your spouse's job) in making the right decision. And in fact, I think the job situation is an important new variable in determining the right amount of cash.
First, assess your job stability (and the stability of your spouse's job). Have you had a series of favorable job reviews? Is the company profitable? Is your job necessary where you work? Have there been a spate of layoffs or other downsizing moves in your company and/or at your competitors? Is your firm a market leader or a follower? And definitely consider your tenure with the firm vis-a-vis the tenure of your co-workers.
For example, I work at a financial institution where my compliance work is required by regulation and I am among a handful in the company who perform this task. It's not to say that I can't be replaced but eliminating the area is out of the question. However, my spouse is self-employed and he has laid off most of his staff. My job is much more stable than his job.
Next, assess your monthly outlays. List your required payments ... mortgage/rent, car payments, installment loans, and credit cards. List your discretionary outlays - Starbucks, lunches out, dinners out, theater tickets, vacations, etc. Continue to make every required payment and pay off all of your credit card balances each month. Then take a look at where you would cut back if you or your spouse were to lose a job. What would your monthly outlays look like in the "scaled down" version?
Next, assess the job market in your area (or region if you are flexible to relocate). How long might it take you/your spouse to find a new job? Three months, 6 months, a year? And be critical. Consider your age, your skill set, your desire to stay in the same industry if you were laid off. What benefits would you get from your employer? Severance? Vacation days paid? What about the carrying cost of your health insurance and other benefits if you/your spouse lost a job? COBRA? What about costs for a job search? These are your "unemployment costs".
Take your monthly outlays in the "scaled down" version and add your new, "unemployment costs" and then map out a plan for the number of months you truly believe to be the length of your unemployed status. Now inflate it maybe 5%-10%. That's the cash you need. And you need to revise this analysis at least every 18 months or whenever you make a large purchase.
And by "cash you need", I do not truly mean you need to have it in 100 dollar bills strapped and hidden in your mattress. This level of cash should be in what is known as "cash equivalents". A cash equivalent is an account or an account type that can be easily turned into ready "cash" or a ready balance in your checking account when you need it. Forms of cash include savings accounts, checking accounts, CDs, and money market accounts. It might also be money available on a home equity line of credit. Do not include cash advances - those will cost you a fortune in interest - and do not include balances in your IRA or 401K. The tax impact of pulling the money out is onerous and can put you seriously behind in meeting your retirement goals. Further, you can only set aside so much in an IRA or 401K annually so "catching it back up" is difficult.
A typical savings or checking account is going to earn you a very minimal level of interest in the current rate environment. But, liquidity is a component of risk. There is always a trade-off between taking more risk, including a lack of access to your funds, and getting a higher return versus having ready access to your money but earning a lower rate of return.
A bank or credit union is a good place for your ready-access cash. Credit unions in particular typically offer a better rate of interest on savings accounts (what they call "share accounts") because they are exempt from corporate and most state taxes so they have more money to pay you, their member. Another option is a CD. CDs can be "laddered". In other words, you can set up a series of CDs to mature at various times during the year - one 3 months out, one 6 months out, one 9 months out, etc. The longer you go in term, the higher the rate of interest. Also look for odd-ball terms like 5 months or 8 months. Sometimes those rates are higher than 6 or 9 month terms. But be careful. You can lose all of your earnings if you terminate your CD before the end of its term.
Institutions like banks and credit unions are safe for your money assuming you do not have over the $250,000 insured limit. This limit is established across the sum of the different accounts in your name. Another limit is set for your spouse and another limit is set for any joint accounts. That also means institutions like GMAC Bank, desperate for money and paying high rates, are perfectly safe as long as you see that FDIC or NCUA insured disclosure. Internet banks like INGDirect are also safe for the same reason. Without the overhead of a physical branch, sometimes internet banks pay a premium for deposits too.
But what if you aren't at this "cash" goal?
There are a number of measures you can take in managing your money today to meet your cash goals. Forced savings is one way. There are a lot of banks and credit unions that will set up an automated withdrawal from your account to force savings. You can also work with your employer to split your payroll into multiple accounts, including a savings account. If you are disciplined enough to make the cuts in your discretionary spending, do so. One or two fewer lattes per week will add $5-$6 to your savings and $25 per month.
And of course you can sell the baseball cards in the attic and make millions ... not.
Having ready cash is a great safety net in this economy and will help you sleep soundly at night. It is an important financial goal to meet right now.
Okay, there's nothing new in that mantra. It is always wise as a family or as an individual to have access to emergency cash. But, how much cash is enough? And, does that mean having cash in the mattress? What's safe?
The typical adage about cash is to have somewhere between 3 and 6 months worth of cash on hand ... meaning accessible. But, you really need to look at your monthly bills and the stability of your job (or your spouse's job) in making the right decision. And in fact, I think the job situation is an important new variable in determining the right amount of cash.
First, assess your job stability (and the stability of your spouse's job). Have you had a series of favorable job reviews? Is the company profitable? Is your job necessary where you work? Have there been a spate of layoffs or other downsizing moves in your company and/or at your competitors? Is your firm a market leader or a follower? And definitely consider your tenure with the firm vis-a-vis the tenure of your co-workers.
For example, I work at a financial institution where my compliance work is required by regulation and I am among a handful in the company who perform this task. It's not to say that I can't be replaced but eliminating the area is out of the question. However, my spouse is self-employed and he has laid off most of his staff. My job is much more stable than his job.
Next, assess your monthly outlays. List your required payments ... mortgage/rent, car payments, installment loans, and credit cards. List your discretionary outlays - Starbucks, lunches out, dinners out, theater tickets, vacations, etc. Continue to make every required payment and pay off all of your credit card balances each month. Then take a look at where you would cut back if you or your spouse were to lose a job. What would your monthly outlays look like in the "scaled down" version?
Next, assess the job market in your area (or region if you are flexible to relocate). How long might it take you/your spouse to find a new job? Three months, 6 months, a year? And be critical. Consider your age, your skill set, your desire to stay in the same industry if you were laid off. What benefits would you get from your employer? Severance? Vacation days paid? What about the carrying cost of your health insurance and other benefits if you/your spouse lost a job? COBRA? What about costs for a job search? These are your "unemployment costs".
Take your monthly outlays in the "scaled down" version and add your new, "unemployment costs" and then map out a plan for the number of months you truly believe to be the length of your unemployed status. Now inflate it maybe 5%-10%. That's the cash you need. And you need to revise this analysis at least every 18 months or whenever you make a large purchase.
And by "cash you need", I do not truly mean you need to have it in 100 dollar bills strapped and hidden in your mattress. This level of cash should be in what is known as "cash equivalents". A cash equivalent is an account or an account type that can be easily turned into ready "cash" or a ready balance in your checking account when you need it. Forms of cash include savings accounts, checking accounts, CDs, and money market accounts. It might also be money available on a home equity line of credit. Do not include cash advances - those will cost you a fortune in interest - and do not include balances in your IRA or 401K. The tax impact of pulling the money out is onerous and can put you seriously behind in meeting your retirement goals. Further, you can only set aside so much in an IRA or 401K annually so "catching it back up" is difficult.
A typical savings or checking account is going to earn you a very minimal level of interest in the current rate environment. But, liquidity is a component of risk. There is always a trade-off between taking more risk, including a lack of access to your funds, and getting a higher return versus having ready access to your money but earning a lower rate of return.
A bank or credit union is a good place for your ready-access cash. Credit unions in particular typically offer a better rate of interest on savings accounts (what they call "share accounts") because they are exempt from corporate and most state taxes so they have more money to pay you, their member. Another option is a CD. CDs can be "laddered". In other words, you can set up a series of CDs to mature at various times during the year - one 3 months out, one 6 months out, one 9 months out, etc. The longer you go in term, the higher the rate of interest. Also look for odd-ball terms like 5 months or 8 months. Sometimes those rates are higher than 6 or 9 month terms. But be careful. You can lose all of your earnings if you terminate your CD before the end of its term.
Institutions like banks and credit unions are safe for your money assuming you do not have over the $250,000 insured limit. This limit is established across the sum of the different accounts in your name. Another limit is set for your spouse and another limit is set for any joint accounts. That also means institutions like GMAC Bank, desperate for money and paying high rates, are perfectly safe as long as you see that FDIC or NCUA insured disclosure. Internet banks like INGDirect are also safe for the same reason. Without the overhead of a physical branch, sometimes internet banks pay a premium for deposits too.
But what if you aren't at this "cash" goal?
There are a number of measures you can take in managing your money today to meet your cash goals. Forced savings is one way. There are a lot of banks and credit unions that will set up an automated withdrawal from your account to force savings. You can also work with your employer to split your payroll into multiple accounts, including a savings account. If you are disciplined enough to make the cuts in your discretionary spending, do so. One or two fewer lattes per week will add $5-$6 to your savings and $25 per month.
And of course you can sell the baseball cards in the attic and make millions ... not.
Having ready cash is a great safety net in this economy and will help you sleep soundly at night. It is an important financial goal to meet right now.
Do I Stay ... or Do I Go Now?
The unprecedented level of home price depreciation has resulted in a number of borrowers handing over the keys and walking away from their mortgage. How many? It is not clear, but the unprecedented level of delinquency and foreclosure suggest that the depth of the mortgage problem is unsurpassed historically.
Should you continue to pay your mortgage if you owe more than your house is worth?
Emphatically, the answer is YES! And here's why ...
First of all, you signed a binding, legal document called a mortgage. It is legally enforceable in a court of law. And, there are a number of remedies available to a borrower, particularly given the recent Mortgage Modification Plan issued by the Obama administration.
Second, the damage to your credit is substantial. Any default on a debt as large as a typical mortgage is a huge "red flag" on your credit bureau report and will diminish your ability to get credit in the future. Lenders were more forgiving in the past, allowing a borrower who defaulted the ability to get credit within 3-4 years after the blemish. Given current risk averse behavior by lenders, I would expect lenders to be much more cautious in the future about granting credit to borrowers with a default in their credit history. That being said, your lender might consider the circumstances of the default. Rest assured, however, that you will be considered a subprime borrower in the future and your rates on all forms of credit will be 2% or more higher, particularly credit cards (if you can get them).
Finally, consider your other housing options. A home has "utility", meaning it has value beyond that of a financial asset. If you move out of your home, where will you live? Will your kids need to change schools? If your time horizon is fairly long, it is entirely possible that your negative equity situation will have time to reverse itself. However, the days of seeing your home increase in value more than 2-4% per year are long gone. And, the days of using your home like an ATM or for funding your retirement are gone too. But your home has value to you and your family and you must consider those "costs" and "benefits".
And the housing cycles are regional. Look at your local economy - is the community growing, are there jobs and companies expanding, are the schools high quality, are there amenities in your community that make people want to live there? Those factors will affect your home value - ignore the media! Those of us in Ohio never enjoyed the luxuries of large increases in home values anyway and we've managed over the years.
And do contact family members who might be able to help you ... perhaps a sale of your home to a family member who leases it back to you is an option.
However, if you believe you were a victim of predatory lending or that some sort of fraud was perpetrated by the lender, you might have legal recourse. You must select your legal advice very carefully, however, because you could end up spending a lot of money on legal advice only to end up on the "bad" end of a legal outcome. There are plenty of attorneys out there who are not well-versed in the complexities of mortgage law. Further, beware of any "fraud" you might have perpetrated in the process of obtaining the mortgage ... for example, did you "embellish" your monthly income? While I am sure you did not, there is plenty of evidence to suggest borrowers lied about as often as the mortgage brokers did in getting mortgages approved.
If you decide to move ahead with turning over your home or, if you just want to explore the options, see the following steps.
Step One: Contact your mortgage's servicer. Contact information is all over your monthly statement or in your coupon book. Be patient. The level of automation makes talking to a "real" person frustrating. But, the US government has largely mandated that lenders work with borrowers.
The Mortgage Modification plan put forth last month by the President sets guidelines for servicers and lenders to work with borrowers in making their mortgage affordable. The plan gives the servicer several options for converting adjustable rate mortgages (ARMs) into fixed rate mortgages, allows the servicer to extend the mortgage up to 40 years to reduce payments, and allows the borrower to work with Fannie Mae and Freddie Mac to refinance a mortgage, even if the loan-to-value (LTV) ratio is as much as 105%. If you can make your payments, however, skip to Step Three.
Step Two: Seek out community and state programs that help borrowers stay in their homes and avoid foreclosure. Contact a state agency like HUD or a local community organization for resources. Again, if you can make your payments, skip to Step Three.
Step Three: Ask your servicer about a "short sale" or "deed in lieu". These are tried and true options that allow the borrower to step away from a mortgage under terms agreed upon by the lender/servicer and the borrower.
A "short sale" involves selling the property at today's market prices. The lender then agrees to accept the proceeds of the sale as full payment. The lender writes off the deficiency as a loss and the borrower owes nothing more after the sale is completed. Now, this may be a long, drawn out process if the home does not sell within a few months. The borrower needs to access the desirability of the property and work with the lender on choosing this option.
A "deed in lieu" involves essentially handing over the keys to the lender, charging the lender with the responsibility for selling the property. Again, the borrower and lender negotiate and typically, the borrower owes nothing, and the handover of the property can be done more quickly.
Remember, if a lender takes your property in foreclosure it has to take on tremendous costs too - legal and court costs, realtor commissions, property maintenance expenses, etc. The lender may see the two options above as a way to manage these costs down and actually reduce their loss on your loan.
Step Four: File bankruptcy. The reality given today's federal guidelines is that a mortgage cannot be discharged in bankruptcy if the mortgage is for your primary residence. However, the House just passed a measure, supported by the Obama administration, that allows a judge to modify a mortgage including writing off principal owed by the borrower to the lender. However, the Senate Republicans and moderate Democrats are blocking the measure from coming up for a vote in the Senate. If the Senate approves the measure, it is likely to be more narrow in scope than what the House has approved. It is likely to apply only to subprime mortgages and will require that the borrower has already attempted to work out payments under the Mortgage Modification plan detailed here. The bankruptcy can discharge your other obligations, again with damage to your credit.
The decision to stay in home that has declined in value is an important one. Your home is more than an asset to you and to your family and the decision is not to be taken lightly. There are tremendous and lasting consequences to "walking away" and the consequences can not be taken lightly.
Should you continue to pay your mortgage if you owe more than your house is worth?
Emphatically, the answer is YES! And here's why ...
First of all, you signed a binding, legal document called a mortgage. It is legally enforceable in a court of law. And, there are a number of remedies available to a borrower, particularly given the recent Mortgage Modification Plan issued by the Obama administration.
Second, the damage to your credit is substantial. Any default on a debt as large as a typical mortgage is a huge "red flag" on your credit bureau report and will diminish your ability to get credit in the future. Lenders were more forgiving in the past, allowing a borrower who defaulted the ability to get credit within 3-4 years after the blemish. Given current risk averse behavior by lenders, I would expect lenders to be much more cautious in the future about granting credit to borrowers with a default in their credit history. That being said, your lender might consider the circumstances of the default. Rest assured, however, that you will be considered a subprime borrower in the future and your rates on all forms of credit will be 2% or more higher, particularly credit cards (if you can get them).
Finally, consider your other housing options. A home has "utility", meaning it has value beyond that of a financial asset. If you move out of your home, where will you live? Will your kids need to change schools? If your time horizon is fairly long, it is entirely possible that your negative equity situation will have time to reverse itself. However, the days of seeing your home increase in value more than 2-4% per year are long gone. And, the days of using your home like an ATM or for funding your retirement are gone too. But your home has value to you and your family and you must consider those "costs" and "benefits".
And the housing cycles are regional. Look at your local economy - is the community growing, are there jobs and companies expanding, are the schools high quality, are there amenities in your community that make people want to live there? Those factors will affect your home value - ignore the media! Those of us in Ohio never enjoyed the luxuries of large increases in home values anyway and we've managed over the years.
And do contact family members who might be able to help you ... perhaps a sale of your home to a family member who leases it back to you is an option.
However, if you believe you were a victim of predatory lending or that some sort of fraud was perpetrated by the lender, you might have legal recourse. You must select your legal advice very carefully, however, because you could end up spending a lot of money on legal advice only to end up on the "bad" end of a legal outcome. There are plenty of attorneys out there who are not well-versed in the complexities of mortgage law. Further, beware of any "fraud" you might have perpetrated in the process of obtaining the mortgage ... for example, did you "embellish" your monthly income? While I am sure you did not, there is plenty of evidence to suggest borrowers lied about as often as the mortgage brokers did in getting mortgages approved.
If you decide to move ahead with turning over your home or, if you just want to explore the options, see the following steps.
Step One: Contact your mortgage's servicer. Contact information is all over your monthly statement or in your coupon book. Be patient. The level of automation makes talking to a "real" person frustrating. But, the US government has largely mandated that lenders work with borrowers.
The Mortgage Modification plan put forth last month by the President sets guidelines for servicers and lenders to work with borrowers in making their mortgage affordable. The plan gives the servicer several options for converting adjustable rate mortgages (ARMs) into fixed rate mortgages, allows the servicer to extend the mortgage up to 40 years to reduce payments, and allows the borrower to work with Fannie Mae and Freddie Mac to refinance a mortgage, even if the loan-to-value (LTV) ratio is as much as 105%. If you can make your payments, however, skip to Step Three.
Step Two: Seek out community and state programs that help borrowers stay in their homes and avoid foreclosure. Contact a state agency like HUD or a local community organization for resources. Again, if you can make your payments, skip to Step Three.
Step Three: Ask your servicer about a "short sale" or "deed in lieu". These are tried and true options that allow the borrower to step away from a mortgage under terms agreed upon by the lender/servicer and the borrower.
A "short sale" involves selling the property at today's market prices. The lender then agrees to accept the proceeds of the sale as full payment. The lender writes off the deficiency as a loss and the borrower owes nothing more after the sale is completed. Now, this may be a long, drawn out process if the home does not sell within a few months. The borrower needs to access the desirability of the property and work with the lender on choosing this option.
A "deed in lieu" involves essentially handing over the keys to the lender, charging the lender with the responsibility for selling the property. Again, the borrower and lender negotiate and typically, the borrower owes nothing, and the handover of the property can be done more quickly.
Remember, if a lender takes your property in foreclosure it has to take on tremendous costs too - legal and court costs, realtor commissions, property maintenance expenses, etc. The lender may see the two options above as a way to manage these costs down and actually reduce their loss on your loan.
Step Four: File bankruptcy. The reality given today's federal guidelines is that a mortgage cannot be discharged in bankruptcy if the mortgage is for your primary residence. However, the House just passed a measure, supported by the Obama administration, that allows a judge to modify a mortgage including writing off principal owed by the borrower to the lender. However, the Senate Republicans and moderate Democrats are blocking the measure from coming up for a vote in the Senate. If the Senate approves the measure, it is likely to be more narrow in scope than what the House has approved. It is likely to apply only to subprime mortgages and will require that the borrower has already attempted to work out payments under the Mortgage Modification plan detailed here. The bankruptcy can discharge your other obligations, again with damage to your credit.
The decision to stay in home that has declined in value is an important one. Your home is more than an asset to you and to your family and the decision is not to be taken lightly. There are tremendous and lasting consequences to "walking away" and the consequences can not be taken lightly.
Tuesday, March 10, 2009
Credit Cards - Our Foibles and Failings
The sage Meredith Whitney wrote of the next great failing of this financial crisis today in the Wall Street Journal - credit cards! And while I agree with most of her article in the macroeconomic sense, I think every household needs to have a credit card that makes common sense.
Credit cards can be the downfall of any undisciplined individual. First, recognize that the money you spend using a credit card is an unsecured loan. A financial institution/card issuer has extended to you, the borrower, an unsecured line of credit. That's different than a car loan or a mortgage because in the case of a car loan or a mortgage you have put up collateral to support the unpaid balance. If you default on a car loan or a mortgage, the financial institution comes and takes that asset back to help offset the balance of the loan you can not repay. In the case of a credit card, the card issuer is not going to come to your home and raid your closet for the clothes you bought using the credit card you did not repay. That's why credit cards cost so much.
What is that cost? The issuer charges you fees and interest in order to offset the risk that you might not pay all of your charges back. Essentially, the issuer is extracting a little bit of money for you each month that ultimately is used to offset the balance you can not repay in the future. The card issuer has assessed your credit risk by checking your credit bureau, verifying your employment and your income and through credit models, and the card issuer has decided how large of a credit line to extend and what rate of interest to charge. The card issuer has also reviewed that same credit bureau analyzing the other credit cards you have and have had, looking at the largest balances you have had on these cards and your repayment history. Do you pay on time, habitually late, etc. The card issuer has also reviewed the kinds of credit lines you have - do you have lots of store credit cards, do you shop at luxury retailers, do you have lots of gas cards, etc.? And there is a trade-off - a larger line of credit might be more expensive than several smaller lines of credit. And late fees and annual fees are part of that credit model too.
Second, recognize that the merchant you visit is also paying the card services like Visa, Mastercard, and Discover a fee per transaction for the privilege of accepting the particular line of credit card and for processing the payment. While the merchant probably recognizes that without accepting credit cards, certain customers will not frequent his store, the merchant is also passing that cost on to you, the customer. Now we are talking pennies per transaction but that allows Visa to run adds to encourage folks like us to run up transactions on our credit cards.
Finally, know that statistically very few people are in huge hock to the credit card companies. Rather, most consumers have lots of credit cards but rarely are borrowers actually living off of their cards and rarely are borrowers fully maxed out on all of their credit cards. Most borrowers have one or two credit cards they use most often and those cards have certain benefits that accrue for usage. But these same cardholders rarely pay their balances off in full, every month throughout the year. And if a paycheck stops coming in or hours are cut at the job, some of these same cardholders will increasingly roll-over their balances.
Ms. Whitney does a wonderful job in her Opinion article today of discussing the impact the recent congressional legislation will have on the average credit card borrower. Credit card issuers are increasingly pulling back lines of credit extended to regular borrowers like us for fear that the economic recession will continue and/or deepen causing more stress among their cardholders. The unique feature favored by credit card issuers is the ability to re-price the risk in their credit card portfolios over time. In other words, a credit card issuer can change the conditions of your credit card agreement on the fly, with little notice. The card issuer can cut your credit line, raise your interest rate, add a fee, impose fines and fees, and generally make your life miserable and complicated for what you may perceive as just a simple late payment. In fact, the card issuer is constantly monitoring your credit and the credit of the cardholder pool it manages and the issuer is constantly looking at small, seemingly insignificant factors for possible stress or increasing risk. If it sees you have opened another credit card account and just paid them late, they may believe that you are becoming overextended and at higher risk for default. They'd better extract more interest from you are gain a fee or reduce your line. They don't want to be the last issuer standing, holding the bigger balance when you do default (if you do). The recently legislation Ms. Whitney discusses will halt the issuer's ability to re-price risk and as she so aptly surmises, the card issuer would rather not issue you the card than issue you a card it can not later re-price.
So, how do you manage credit cards?
First, never charge more than you can afford to pay off each month. If your pay is erratic, you need to be more vigilant in managing your monthly charges to some sort of minimum expected monthly pay amount. You never want to pay monthly service charges (interest) or a late fee. The actual cost of such is typically very high and repeated failures to pay the entire balance each month results in paying interest charged on top of interest. Effectively you will vastly overpay for that item or items you just had to have!
Second, use websites like bankrate.com and constantly check to see that you are using the credit card with the best possible interest rate and the lowest (or no) fees. If your card program has perks, make sure that you really can use the airline miles or the cash-back program. If you have to carry a balance, always seek the program with the lowest possible rates. It may also be hard to switch from one card program to another if you are carrying a balance. You will probably have to work with the card issuer directly and that issuer will want to be certain that the card they issue to you is not incremental. They may want to use a cash advance to pay off the card you intend to replace.
Now, be careful when you close credit card accounts. Your credit score can actually go down if you close too many credit lines. It is actually better to charge on your credit cards and pay them off in full each month. But do not charge your credit card all the way up to its limit each month, even if you are able to pay it off each month. That will drive someone looking at your credit bureau report to conclude that you are apt to overextend yourself. It is advantageous to have several credit cards that you charge modestly on each month and make sure you pay every one of them off each month in full. That will enhance your credit score. If you find it difficult to manage multiple credit cards, take a few of your open credit cards out of your wallet and store them in a safe deposit box or lock them in a home safe. The open credit line will be reflected in your credit score but you won't be tempted to use all of your cards.
Finally, it is also helpful to use credit cards that have due dates at different times during the month. For example, I use 2 cards pretty much exclusively each month. Each carries a reward that I use. One comes due at the end of the month and the other mid-month. That helps me even out my cash flow and time my payment due dates with my paydays. One is a miles card and typically awards bonus miles at gas stations and groceries each month. The other is a broader travel rewards card that we use for car rental rewards and for some airline credits. I use it at the pharmacy, the dry cleaner, for some business expenses, and other mail order purchases.
Credit cards are a necessity for most in today's society. While the shift away from the days of cash and checkbooks and to credit cards and debit cards has been accomplished, Ms. Whitney highlights several concerns that might cause a bit of a shift back toward more of a cash society. Prudent use of your credit cards will be a necessity for maintaining your credit card relationships through this period of economic hardship - and even prudent management is no guarantee that the credit card issuers will want to maintain that same relationship with you.
Send your comments, emails, and suggestions!
Credit cards can be the downfall of any undisciplined individual. First, recognize that the money you spend using a credit card is an unsecured loan. A financial institution/card issuer has extended to you, the borrower, an unsecured line of credit. That's different than a car loan or a mortgage because in the case of a car loan or a mortgage you have put up collateral to support the unpaid balance. If you default on a car loan or a mortgage, the financial institution comes and takes that asset back to help offset the balance of the loan you can not repay. In the case of a credit card, the card issuer is not going to come to your home and raid your closet for the clothes you bought using the credit card you did not repay. That's why credit cards cost so much.
What is that cost? The issuer charges you fees and interest in order to offset the risk that you might not pay all of your charges back. Essentially, the issuer is extracting a little bit of money for you each month that ultimately is used to offset the balance you can not repay in the future. The card issuer has assessed your credit risk by checking your credit bureau, verifying your employment and your income and through credit models, and the card issuer has decided how large of a credit line to extend and what rate of interest to charge. The card issuer has also reviewed that same credit bureau analyzing the other credit cards you have and have had, looking at the largest balances you have had on these cards and your repayment history. Do you pay on time, habitually late, etc. The card issuer has also reviewed the kinds of credit lines you have - do you have lots of store credit cards, do you shop at luxury retailers, do you have lots of gas cards, etc.? And there is a trade-off - a larger line of credit might be more expensive than several smaller lines of credit. And late fees and annual fees are part of that credit model too.
Second, recognize that the merchant you visit is also paying the card services like Visa, Mastercard, and Discover a fee per transaction for the privilege of accepting the particular line of credit card and for processing the payment. While the merchant probably recognizes that without accepting credit cards, certain customers will not frequent his store, the merchant is also passing that cost on to you, the customer. Now we are talking pennies per transaction but that allows Visa to run adds to encourage folks like us to run up transactions on our credit cards.
Finally, know that statistically very few people are in huge hock to the credit card companies. Rather, most consumers have lots of credit cards but rarely are borrowers actually living off of their cards and rarely are borrowers fully maxed out on all of their credit cards. Most borrowers have one or two credit cards they use most often and those cards have certain benefits that accrue for usage. But these same cardholders rarely pay their balances off in full, every month throughout the year. And if a paycheck stops coming in or hours are cut at the job, some of these same cardholders will increasingly roll-over their balances.
Ms. Whitney does a wonderful job in her Opinion article today of discussing the impact the recent congressional legislation will have on the average credit card borrower. Credit card issuers are increasingly pulling back lines of credit extended to regular borrowers like us for fear that the economic recession will continue and/or deepen causing more stress among their cardholders. The unique feature favored by credit card issuers is the ability to re-price the risk in their credit card portfolios over time. In other words, a credit card issuer can change the conditions of your credit card agreement on the fly, with little notice. The card issuer can cut your credit line, raise your interest rate, add a fee, impose fines and fees, and generally make your life miserable and complicated for what you may perceive as just a simple late payment. In fact, the card issuer is constantly monitoring your credit and the credit of the cardholder pool it manages and the issuer is constantly looking at small, seemingly insignificant factors for possible stress or increasing risk. If it sees you have opened another credit card account and just paid them late, they may believe that you are becoming overextended and at higher risk for default. They'd better extract more interest from you are gain a fee or reduce your line. They don't want to be the last issuer standing, holding the bigger balance when you do default (if you do). The recently legislation Ms. Whitney discusses will halt the issuer's ability to re-price risk and as she so aptly surmises, the card issuer would rather not issue you the card than issue you a card it can not later re-price.
So, how do you manage credit cards?
First, never charge more than you can afford to pay off each month. If your pay is erratic, you need to be more vigilant in managing your monthly charges to some sort of minimum expected monthly pay amount. You never want to pay monthly service charges (interest) or a late fee. The actual cost of such is typically very high and repeated failures to pay the entire balance each month results in paying interest charged on top of interest. Effectively you will vastly overpay for that item or items you just had to have!
Second, use websites like bankrate.com and constantly check to see that you are using the credit card with the best possible interest rate and the lowest (or no) fees. If your card program has perks, make sure that you really can use the airline miles or the cash-back program. If you have to carry a balance, always seek the program with the lowest possible rates. It may also be hard to switch from one card program to another if you are carrying a balance. You will probably have to work with the card issuer directly and that issuer will want to be certain that the card they issue to you is not incremental. They may want to use a cash advance to pay off the card you intend to replace.
Now, be careful when you close credit card accounts. Your credit score can actually go down if you close too many credit lines. It is actually better to charge on your credit cards and pay them off in full each month. But do not charge your credit card all the way up to its limit each month, even if you are able to pay it off each month. That will drive someone looking at your credit bureau report to conclude that you are apt to overextend yourself. It is advantageous to have several credit cards that you charge modestly on each month and make sure you pay every one of them off each month in full. That will enhance your credit score. If you find it difficult to manage multiple credit cards, take a few of your open credit cards out of your wallet and store them in a safe deposit box or lock them in a home safe. The open credit line will be reflected in your credit score but you won't be tempted to use all of your cards.
Finally, it is also helpful to use credit cards that have due dates at different times during the month. For example, I use 2 cards pretty much exclusively each month. Each carries a reward that I use. One comes due at the end of the month and the other mid-month. That helps me even out my cash flow and time my payment due dates with my paydays. One is a miles card and typically awards bonus miles at gas stations and groceries each month. The other is a broader travel rewards card that we use for car rental rewards and for some airline credits. I use it at the pharmacy, the dry cleaner, for some business expenses, and other mail order purchases.
Credit cards are a necessity for most in today's society. While the shift away from the days of cash and checkbooks and to credit cards and debit cards has been accomplished, Ms. Whitney highlights several concerns that might cause a bit of a shift back toward more of a cash society. Prudent use of your credit cards will be a necessity for maintaining your credit card relationships through this period of economic hardship - and even prudent management is no guarantee that the credit card issuers will want to maintain that same relationship with you.
Send your comments, emails, and suggestions!
Monday, March 9, 2009
The Fairness of Mortgage Modification
I know, I know ... you are paying your mortgage. So am I. Why should we support any sort of plan that bails out those who lied, cheated, and manipulated their way into a mortgage in the first place ... only to find themselves unable to make the payments?
Because we have to ... that's why.
I think we all know that there were short-cuts, excesses, greed, etc. at work in getting us into this mortgage mess. Mortgage brokers lied and changed mortgage applications to get the loans approved. True. We don't know the extent to which this happened, but we know from anecdotes that it did. Borrowers lied and said they were going to live in homes that they never intended to live in - homes they simply bought to turn around and sell for a profit. We don't know the extent to which this happened, but we know that there are borrowers out there who also bought homes with fictitious lease agreements prepared indicating that they were arranging financing for a rental investment. We know this happened because Fannie and Freddie are putting programs together to finance rental properties again, but this time requiring the borrower to have 6 months or more in rental payments in cash in a bank account. We know that borrowers lied about their income - there is now a whole class of loans known as stated income or no doc loans, now known as "liar loans" as a result of the number of lies now understood to have been perpetrated. We know that lenders continued to move down the credit spectrum in approving more and more marginal borrowers in order to keep their mortgage origination flow. We know this because of the extraordinary shift in approval rates now experienced in this market.
So why support these plans to modify loans?
Ultimately, if your neighbor loses his/her house to foreclosure and the lender takes that home back and has to sell it to try to recover some of the loan balance, I guarantee in this market, that house is going to sell for less than its last purchase price. You, as the neighbor, will realize a decline in your home's value. And when lenders have more and more homes in foreclosure to sell, the lender is going to cut corners and sell the home as quickly as possible. These auctions where hundreds of homes are sold on a single date are not likely to bring top dollar for any home. And not your neighbor's home.
While the lender waits to sell the home, it's not like they are particularly good at maintaining properties either - it's not their expertise. Sometimes the home isn't even locked down - around where I live there were many news accounts this winter about foreclosed homes where the pipes froze and burst because the lender didn't know to drain the water lines after the utilities were shut off. Certainly, complaints over tall grass and weeds distract from the value of the foreclosed property ... and don't add to the value of your neighboring property either.
The idea in any modification plan is to slow the roll of delinquent mortgages to foreclosure. By slowing the process, perhaps the volume of properties becomes easier for the lender to manage. By slowing the process, perhaps the local real estate market becomes less saturated with cheap properties and has a chance to absorb the inventory of homes on hand through household formation, with help from a cut in new housing stock. And naturally there are households out there that but for some bad luck, job struggles, medical bills, and unexpected changes in household wealth could have continued to make their mortgage payments. Helping those honest, hard-working folks in the end helps you.
It is also important to recognize that the mortgage market has gone through a complete, structural change. With the exception of Fannie Mae and Freddie Mac, few lenders are willing to extend their balance sheets for the purpose of taking on any kind of risk at this time. Banks and financial institutions no longer have the capital to support risk. While much-maligned, the securitization market was a tremendous support for the housing market by allowing financial institutions to move outside of Fannie Mae and Freddie Mac for funds. The securitization market is dead. Funds are not available. Therefore, there is a large class of borrower and a large swath of current homeowners out there who cannot refinance their mortgage, who cannot finance a future home purchase, and who are nearly trapped in the current mortgage. Mortgage rates are at historical lows yet again, but many borrowers cannot take advantage. The modification plan will help an incremental percentage - though probably not enough of them - to take advantage of some of the current rate environment.
Ultimately, the housing market must reach a bottom in order for housing to return as a modestly profitable investment. In addition to the modification plan and other loan modification and housing incentives offered by various groups, banks, and government agencies, there are structural factors in the economy that will ultimately help housing recover. Household formation - i.e., couples marrying, starting families, job creation and job transfer, divorces, family expansion, and even natural disasters affect housing demand. As Warren Buffett said today, however, household formation takes time. He mentioned laughingly that no one is promoting 14-year olds getting married to increase the rate of household formation. Job stability would also help housing. People in fear of their financial future and jobs are unlikely to make a major financial investment, particularly one they now perceive as paying a minimal (or even negative) return, even if they believe they are getting a bargain. And clearly the American public has changed its savings and investment habits significantly in response to market conditions.
Housing will, however, stabilize. The sooner it happens, the better.
And mortgage modifications are going to be an important component, among other factors, in helping the housing market recover.
Because we have to ... that's why.
I think we all know that there were short-cuts, excesses, greed, etc. at work in getting us into this mortgage mess. Mortgage brokers lied and changed mortgage applications to get the loans approved. True. We don't know the extent to which this happened, but we know from anecdotes that it did. Borrowers lied and said they were going to live in homes that they never intended to live in - homes they simply bought to turn around and sell for a profit. We don't know the extent to which this happened, but we know that there are borrowers out there who also bought homes with fictitious lease agreements prepared indicating that they were arranging financing for a rental investment. We know this happened because Fannie and Freddie are putting programs together to finance rental properties again, but this time requiring the borrower to have 6 months or more in rental payments in cash in a bank account. We know that borrowers lied about their income - there is now a whole class of loans known as stated income or no doc loans, now known as "liar loans" as a result of the number of lies now understood to have been perpetrated. We know that lenders continued to move down the credit spectrum in approving more and more marginal borrowers in order to keep their mortgage origination flow. We know this because of the extraordinary shift in approval rates now experienced in this market.
So why support these plans to modify loans?
Ultimately, if your neighbor loses his/her house to foreclosure and the lender takes that home back and has to sell it to try to recover some of the loan balance, I guarantee in this market, that house is going to sell for less than its last purchase price. You, as the neighbor, will realize a decline in your home's value. And when lenders have more and more homes in foreclosure to sell, the lender is going to cut corners and sell the home as quickly as possible. These auctions where hundreds of homes are sold on a single date are not likely to bring top dollar for any home. And not your neighbor's home.
While the lender waits to sell the home, it's not like they are particularly good at maintaining properties either - it's not their expertise. Sometimes the home isn't even locked down - around where I live there were many news accounts this winter about foreclosed homes where the pipes froze and burst because the lender didn't know to drain the water lines after the utilities were shut off. Certainly, complaints over tall grass and weeds distract from the value of the foreclosed property ... and don't add to the value of your neighboring property either.
The idea in any modification plan is to slow the roll of delinquent mortgages to foreclosure. By slowing the process, perhaps the volume of properties becomes easier for the lender to manage. By slowing the process, perhaps the local real estate market becomes less saturated with cheap properties and has a chance to absorb the inventory of homes on hand through household formation, with help from a cut in new housing stock. And naturally there are households out there that but for some bad luck, job struggles, medical bills, and unexpected changes in household wealth could have continued to make their mortgage payments. Helping those honest, hard-working folks in the end helps you.
It is also important to recognize that the mortgage market has gone through a complete, structural change. With the exception of Fannie Mae and Freddie Mac, few lenders are willing to extend their balance sheets for the purpose of taking on any kind of risk at this time. Banks and financial institutions no longer have the capital to support risk. While much-maligned, the securitization market was a tremendous support for the housing market by allowing financial institutions to move outside of Fannie Mae and Freddie Mac for funds. The securitization market is dead. Funds are not available. Therefore, there is a large class of borrower and a large swath of current homeowners out there who cannot refinance their mortgage, who cannot finance a future home purchase, and who are nearly trapped in the current mortgage. Mortgage rates are at historical lows yet again, but many borrowers cannot take advantage. The modification plan will help an incremental percentage - though probably not enough of them - to take advantage of some of the current rate environment.
Ultimately, the housing market must reach a bottom in order for housing to return as a modestly profitable investment. In addition to the modification plan and other loan modification and housing incentives offered by various groups, banks, and government agencies, there are structural factors in the economy that will ultimately help housing recover. Household formation - i.e., couples marrying, starting families, job creation and job transfer, divorces, family expansion, and even natural disasters affect housing demand. As Warren Buffett said today, however, household formation takes time. He mentioned laughingly that no one is promoting 14-year olds getting married to increase the rate of household formation. Job stability would also help housing. People in fear of their financial future and jobs are unlikely to make a major financial investment, particularly one they now perceive as paying a minimal (or even negative) return, even if they believe they are getting a bargain. And clearly the American public has changed its savings and investment habits significantly in response to market conditions.
Housing will, however, stabilize. The sooner it happens, the better.
And mortgage modifications are going to be an important component, among other factors, in helping the housing market recover.
Wednesday, March 4, 2009
Investing in the Stock Market & Risk Appetite
Back last August, I was sitting in my office and one of those annoying co-worker types comes in and sits down in one of the chairs facing my desk. She asks what I am doing about the stock market.
First, understand that my real job involves credit risk management and I am constantly involved in monitoring the investment portfolio we hold where I work (about $4 billion). It is, however, primarily in investment grade bonds ... we hold no stocks.
While I was somewhat annoyed as I certainly had other things to do at the time, I was also somewhat buoyed by the fact that she wanted my opinion. So in light of these continued unsettled days in the market, I will convey the following advice ... the same advice I gave her that day ... and the same advice someone gave me a long time ago ...
"If your investment portfolio is keeping you up at night, you don't have the risk appetite to be in that part of the market."
Now, Jim Cramer did say something similar last fall and got really castigated for it, but simply, don't put money in this market (and I would add any market) that you need in the next 3 years. In other words, don't put money in this market you can't afford to lose. Because stocks can go to zero.
My advise is simple ...
1) Plan your financial future with a 3-5 year time horizon. Don't assume big raises (in this economy), don't assume you will always be employed (have at least 3 if not 6 months of salary in cash/savings), and assume there will be some unexpected expenses. Will you purchase a home, a car, will you need to pay tuition? What do you have left? Let's call this money "discretionary".
2) How much time can you invest in managing your money? Do you have time to day-trade? Will you check on your investments daily ... weekly ... monthly ... yearly? Can you afford to pay a percentage of the money you have invested to someone else to manage it?
3) How much risk are you willing to take? Make sure that the money you allocate to investing is money that you can tolerate losing ... and losing all of it.
Your answer will lead you to an investment scenario you can live with.
Money market funds and CDs are the kinds of investments perfect for people with little time to manage their money and little tolerance for risk. Now, you can escalate your level of risk through selecting funds that have a higher risk profile. Use a service like Morningstar to help you. Morningstar is the pre-eminent purveyor of money market funds and have a long-standing history of non-bias and a good rating system and a number of tools on their website (some cost more than others).
Individual stocks require homework. And don't just invest in "what you know". Stock investment requires discipline and diversification. If you don't understand either term, the stock market is no place for you. It is also dubious in this market that the old "buy-and-hold" strategy will make you money. The market right now is for day-trading and professionals, in my opinion.
In the case of my annoying co-worker, I could tell that she was not at all comfortable with the money she had invested in the market. After all, and much to Jim Cramer's original example, she has a son in college. She was gambling with his tuition money! Someone had told her that there was better money to be made in the stock market and she was chasing yield, essentially, but without the homework that should go along with picking an individual stock or bond. My advice to her was to take all of the money she had in the stock market out ... at the most opportune time ... and I told her to put it into something like CDs or insured money market funds.
I think if anything, the debacle in the financial institutions and in the markets have taught us that greed gets us into trouble. And much like the housing crisis, there is this "herd" mentality ... keep up with the Jones' ... a bigger house like the Jones, make money in the markets like the Jones' ... etc.
Make money doing the things you do best and through taking the level of risk you are comfortable taking.
I'd love to hear from you ... make comments, send emails!
Check out my recently published content on AC:
What is Your Risk Appetite? Assessing Your Personal Comfort Level
First, understand that my real job involves credit risk management and I am constantly involved in monitoring the investment portfolio we hold where I work (about $4 billion). It is, however, primarily in investment grade bonds ... we hold no stocks.
While I was somewhat annoyed as I certainly had other things to do at the time, I was also somewhat buoyed by the fact that she wanted my opinion. So in light of these continued unsettled days in the market, I will convey the following advice ... the same advice I gave her that day ... and the same advice someone gave me a long time ago ...
"If your investment portfolio is keeping you up at night, you don't have the risk appetite to be in that part of the market."
Now, Jim Cramer did say something similar last fall and got really castigated for it, but simply, don't put money in this market (and I would add any market) that you need in the next 3 years. In other words, don't put money in this market you can't afford to lose. Because stocks can go to zero.
My advise is simple ...
1) Plan your financial future with a 3-5 year time horizon. Don't assume big raises (in this economy), don't assume you will always be employed (have at least 3 if not 6 months of salary in cash/savings), and assume there will be some unexpected expenses. Will you purchase a home, a car, will you need to pay tuition? What do you have left? Let's call this money "discretionary".
2) How much time can you invest in managing your money? Do you have time to day-trade? Will you check on your investments daily ... weekly ... monthly ... yearly? Can you afford to pay a percentage of the money you have invested to someone else to manage it?
3) How much risk are you willing to take? Make sure that the money you allocate to investing is money that you can tolerate losing ... and losing all of it.
Your answer will lead you to an investment scenario you can live with.
Money market funds and CDs are the kinds of investments perfect for people with little time to manage their money and little tolerance for risk. Now, you can escalate your level of risk through selecting funds that have a higher risk profile. Use a service like Morningstar to help you. Morningstar is the pre-eminent purveyor of money market funds and have a long-standing history of non-bias and a good rating system and a number of tools on their website (some cost more than others).
Individual stocks require homework. And don't just invest in "what you know". Stock investment requires discipline and diversification. If you don't understand either term, the stock market is no place for you. It is also dubious in this market that the old "buy-and-hold" strategy will make you money. The market right now is for day-trading and professionals, in my opinion.
In the case of my annoying co-worker, I could tell that she was not at all comfortable with the money she had invested in the market. After all, and much to Jim Cramer's original example, she has a son in college. She was gambling with his tuition money! Someone had told her that there was better money to be made in the stock market and she was chasing yield, essentially, but without the homework that should go along with picking an individual stock or bond. My advice to her was to take all of the money she had in the stock market out ... at the most opportune time ... and I told her to put it into something like CDs or insured money market funds.
I think if anything, the debacle in the financial institutions and in the markets have taught us that greed gets us into trouble. And much like the housing crisis, there is this "herd" mentality ... keep up with the Jones' ... a bigger house like the Jones, make money in the markets like the Jones' ... etc.
Make money doing the things you do best and through taking the level of risk you are comfortable taking.
I'd love to hear from you ... make comments, send emails!
Check out my recently published content on AC:
What is Your Risk Appetite? Assessing Your Personal Comfort Level
Sunday, March 1, 2009
Money Saving Idea!
Are you paying your bills online or are you still using your checkbook and stamps?
Here is a money-saving idea that will also help you manage your available cash ... pay your bills online.
And I'm not just talking about the automatic payments banks and other lenders are forcing upon you when you take out a loan and I'm also not talking about going to your credit card company's website to pay your bills when you forget to get it in the mail on time. No, I'm talking about signing up for and using the bill pay system most banks, savings and loans, and credit unions offer (I'm going to collective call these financial institutions "banks").
The most popular bill pay system is one from Checkfree. You, as the user, are probably unaware of the company behind your bank's outward facing customer system, but the typical bill pay system is not one proprietary to your "bank" but a safe, secure system developed and marketed by Checkfree or one of its competitors.
Bill pay allows you to customize a list of bills in a database that is accessed through a multi-factor authentication method, typically through an initial access to your bank's system. Using Checkfree and companies like Checkfree allows the bank to aggregate all of its payments to a single recipient. Checkfree acts like a trustee and aggregates your payments to the local utility company, for example, along with thousands of other customer payments to the same company. The utility is happy because it gets quick access to its cash, instead of having to process thousands of individual checks. There is less manpower and the utility in this example doesn't need to mess with overdrafts and re-deposits. The payment is not typically made from your account if you haven't sufficient funds, unless you have overdraft. Companies like Checkfree use the Automated Clearing House payment system (ACH) to send large payment files for common vendors like utilities, with payment information embedded in the file so that the receiving company can post the payments to the proper accounts. This is very efficient for the recipient.
Bill pay allows you to set up payments to many different entities, even individuals. Where there is not an ability for a company like Checkfree to aggregate payments, it cuts a check to the payee on your behalf, and eats the cost of the postage. Think of the huge savings to you in just cutting out $4-5 or more in postage per month. That savings can get you a grande latte as a monthly treat.
Bill pay systems also allow you to manage your funds. You can pre-date a payment that is coming due out into the future. Now, be careful. I would certainly deduct any payment, even a future-dated payment, from your current balance because it can get tricky to manage the inflow of your paycheck and time that Discover bill exactly right, but it does allow you to maximize your balances for purposes of earning even a little bit of interest each month. And do be careful of cutting the payment date you input too close to the due date of your bill. Any savings you get in postage can easily be eaten-up by a late charge. I recommend paying the bill about 2-3 days in advance of the due date when the biller is a large, multinational firm or a big utility and about 5 days in advance otherwise, unless there is no late fee.
Also, use the memo field that the bill pay systems typically offer to enter an account number, even if one is embedded in the billing file. I have experienced problems getting payments booked to the correct account, particularly where you may have multiple account numbers with the same biller. For example, you might have 2 credit cards, both issued by Chase (and Chase has never made a mistake on posting my payments - this is just an example). I think entering the account number forces you to get the input correct as well.
I will talk in a few weeks about the benefits of paying even a little extra on your mortgage each month, but this is a good use of the memo field as well. If you are like me and round the payment up to the next dollar or next multiple of 5 or 10 dollars, it is useful to tell the mortgage servicer to post the additional dolars and some cents to principal (not to your escrow).
Bill pay systems also offer a great, online method of obtaining cancelled checks and for verifying a payment has been made and processed by the biller. Within the Checkfree system, there is a method for getting a copy of the front and back of a paid check and there is a method of requesting a "trace" on a payment, particularly when it is a check Checkfree cut that has not cleared your account.
Another caution - particularly for billers that cannot easily be aggregated by Checkfree (like a local daycare or an individual), the system may require that you put in your payment request several days - even up to 5 working days - in advance of the payment date. So, do not wait until the last minute to process your bills. My suggestion is to set up 2, even 3 days per month that are dedicated to paying bills. I would also suggest setting up a sorting system, perhaps a table-top in-box with 2-3 bins so that you can take your mail, sort it for the next date you will pay bills, and then easily fetch all of the items when you sit down to process your payments. There are fancy, daily tickler files out there, but I think some recycled in-boxes you might get from an old office set at work or something you might create out of an old shoe box, covered with some contact paper, would suffice. The most important thing is to be prepared when you sit down.
The possibilities of a bill pay system can also provide you a way to "pay yourself first". If you need the discipline to save money each month, you can set up a biller and send a set amount of money to a savings account or to a 529 account each month. Your bank site might also include an account-to-account transfer if you have both a checking and savings relationship with the same bank.
And yes, the first time you set up a new biller in the system does take time.
The Checkfree system also has a "reminder" feature where you can set up an email alert or multiple alerts. This is particularly useful for those bills that are easy to forget - the dance studio where my daughter dances is often a bill I forget to pay because they don't send me an invoice. I set up an email alert to email me several days before the payment is due so that I can remember to pay it on time.
Finally, Checkfree has a nice log within its system that tells you bills recently paid and displays a queue of bills you have requested to be paid and the date. You can make certain at any time that you have sufficient funds in your account and know that a bill you have set up to be paid has, in fact, processed.
Most "banks" offer bill pay as a free feature. Also, make sure that if your "bank" offers bill pay for free, there isn't some sort of monthly maintenance charge elsewhere for your account. If your "bank" charges for bill pay and/or charges monthly fees, check out your local credit union. I don't know of a credit union out there that charges for bill pay and typically a credit union "share draft" account (a credit union term for a checking account) is free and membership in a credit union is typically no more than a 1-time $5 fee.
So, take a hard look at setting up bill pay for your account.
Email me your suggestions and feel free to comment!
Check out my recently published content on AC:
Bill Pay Services Are Money-Saving Services
Here is a money-saving idea that will also help you manage your available cash ... pay your bills online.
And I'm not just talking about the automatic payments banks and other lenders are forcing upon you when you take out a loan and I'm also not talking about going to your credit card company's website to pay your bills when you forget to get it in the mail on time. No, I'm talking about signing up for and using the bill pay system most banks, savings and loans, and credit unions offer (I'm going to collective call these financial institutions "banks").
The most popular bill pay system is one from Checkfree. You, as the user, are probably unaware of the company behind your bank's outward facing customer system, but the typical bill pay system is not one proprietary to your "bank" but a safe, secure system developed and marketed by Checkfree or one of its competitors.
Bill pay allows you to customize a list of bills in a database that is accessed through a multi-factor authentication method, typically through an initial access to your bank's system. Using Checkfree and companies like Checkfree allows the bank to aggregate all of its payments to a single recipient. Checkfree acts like a trustee and aggregates your payments to the local utility company, for example, along with thousands of other customer payments to the same company. The utility is happy because it gets quick access to its cash, instead of having to process thousands of individual checks. There is less manpower and the utility in this example doesn't need to mess with overdrafts and re-deposits. The payment is not typically made from your account if you haven't sufficient funds, unless you have overdraft. Companies like Checkfree use the Automated Clearing House payment system (ACH) to send large payment files for common vendors like utilities, with payment information embedded in the file so that the receiving company can post the payments to the proper accounts. This is very efficient for the recipient.
Bill pay allows you to set up payments to many different entities, even individuals. Where there is not an ability for a company like Checkfree to aggregate payments, it cuts a check to the payee on your behalf, and eats the cost of the postage. Think of the huge savings to you in just cutting out $4-5 or more in postage per month. That savings can get you a grande latte as a monthly treat.
Bill pay systems also allow you to manage your funds. You can pre-date a payment that is coming due out into the future. Now, be careful. I would certainly deduct any payment, even a future-dated payment, from your current balance because it can get tricky to manage the inflow of your paycheck and time that Discover bill exactly right, but it does allow you to maximize your balances for purposes of earning even a little bit of interest each month. And do be careful of cutting the payment date you input too close to the due date of your bill. Any savings you get in postage can easily be eaten-up by a late charge. I recommend paying the bill about 2-3 days in advance of the due date when the biller is a large, multinational firm or a big utility and about 5 days in advance otherwise, unless there is no late fee.
Also, use the memo field that the bill pay systems typically offer to enter an account number, even if one is embedded in the billing file. I have experienced problems getting payments booked to the correct account, particularly where you may have multiple account numbers with the same biller. For example, you might have 2 credit cards, both issued by Chase (and Chase has never made a mistake on posting my payments - this is just an example). I think entering the account number forces you to get the input correct as well.
I will talk in a few weeks about the benefits of paying even a little extra on your mortgage each month, but this is a good use of the memo field as well. If you are like me and round the payment up to the next dollar or next multiple of 5 or 10 dollars, it is useful to tell the mortgage servicer to post the additional dolars and some cents to principal (not to your escrow).
Bill pay systems also offer a great, online method of obtaining cancelled checks and for verifying a payment has been made and processed by the biller. Within the Checkfree system, there is a method for getting a copy of the front and back of a paid check and there is a method of requesting a "trace" on a payment, particularly when it is a check Checkfree cut that has not cleared your account.
Another caution - particularly for billers that cannot easily be aggregated by Checkfree (like a local daycare or an individual), the system may require that you put in your payment request several days - even up to 5 working days - in advance of the payment date. So, do not wait until the last minute to process your bills. My suggestion is to set up 2, even 3 days per month that are dedicated to paying bills. I would also suggest setting up a sorting system, perhaps a table-top in-box with 2-3 bins so that you can take your mail, sort it for the next date you will pay bills, and then easily fetch all of the items when you sit down to process your payments. There are fancy, daily tickler files out there, but I think some recycled in-boxes you might get from an old office set at work or something you might create out of an old shoe box, covered with some contact paper, would suffice. The most important thing is to be prepared when you sit down.
The possibilities of a bill pay system can also provide you a way to "pay yourself first". If you need the discipline to save money each month, you can set up a biller and send a set amount of money to a savings account or to a 529 account each month. Your bank site might also include an account-to-account transfer if you have both a checking and savings relationship with the same bank.
And yes, the first time you set up a new biller in the system does take time.
The Checkfree system also has a "reminder" feature where you can set up an email alert or multiple alerts. This is particularly useful for those bills that are easy to forget - the dance studio where my daughter dances is often a bill I forget to pay because they don't send me an invoice. I set up an email alert to email me several days before the payment is due so that I can remember to pay it on time.
Finally, Checkfree has a nice log within its system that tells you bills recently paid and displays a queue of bills you have requested to be paid and the date. You can make certain at any time that you have sufficient funds in your account and know that a bill you have set up to be paid has, in fact, processed.
Most "banks" offer bill pay as a free feature. Also, make sure that if your "bank" offers bill pay for free, there isn't some sort of monthly maintenance charge elsewhere for your account. If your "bank" charges for bill pay and/or charges monthly fees, check out your local credit union. I don't know of a credit union out there that charges for bill pay and typically a credit union "share draft" account (a credit union term for a checking account) is free and membership in a credit union is typically no more than a 1-time $5 fee.
So, take a hard look at setting up bill pay for your account.
Email me your suggestions and feel free to comment!
Check out my recently published content on AC:
Bill Pay Services Are Money-Saving Services
Friday, February 27, 2009
What is Risk?
Risk ... to the Chinese, the symbol for Risk is the same as the symbol for Opportunity.
So, let's remember that not all risk is bad.
Risk is a combination of probability or a likelihood something happens and the impact of that event. In a way, that makes Risk measurable. Any "quant" can see that there is an application of some metrics available for risk measurement. And in many companies (like mine), a risk measurement is incorporated into how they identify and prioritize Risk.
For example, an event that has a high probability of occurrence (score it a 10) and a high impact (another 10) has a high "score" (10 X 10 = 100) and can easily sort to the top of the list of risks that need to be addressed by the company. There are also low probability, high impact events (like 9/11 as an extreme example) and high probability, low impact events (like stealing office supplies from the office).
There are also "risk takers" or the people who hook giant rubber bands on themselves (bungee cords) and then jump off bridges. Then there are those who won't leave their homes. There are also companies that are risk takers - companies that are on the cutting edge of technology, for example or that do a lot of R&D. There are also companies that take little risk - like a hospital - in fact, their mission is in direct opposition to taking risk because they are in the business of healing.
Now, I'm not advocating either position on the risk-taking spectrum. And I'm not on either extreme of the risk continuum myself. Rather, I'm somewhere in between and so is nearly everyone else ...
So if you are like me and don't favor bungee cords and like to come out of the house, weather permitting, the important thing to consider is your Risk Appetite.
Risk Appetite is a concept that considers your preference for risk-taking. Are you a person who likes consistency, routine ... are you a planner and a person who keeps detailed calendars and has a plan? If so, you are probably a person with little appetite for risk or your Risk Appetite is relatively low. If you are spontaneous, like adventure, and enjoy being on the "cutting edge", you probably have a relatively high appetite for Risk.
Now, there are no absolutes and in some cases you might like taking Risk. Maybe you like to travel to new, exotic places ... that might suggest some level of risk taking that is greater than the family who heads to the same Hilton Head Resort every year. But, that same exotic traveler might keep a detailed budget, planner, and has a routine job.
Why is understanding your Risk Appetite important?
You need to make risk decisions that are consistent with your Risk Appetite. Making decisions that are inconsistent with your Risk Appetite is what is keeping you up at night.
Trust me ... More to Come!
Post your questions, comments! Love to hear from you!
So, let's remember that not all risk is bad.
Risk is a combination of probability or a likelihood something happens and the impact of that event. In a way, that makes Risk measurable. Any "quant" can see that there is an application of some metrics available for risk measurement. And in many companies (like mine), a risk measurement is incorporated into how they identify and prioritize Risk.
For example, an event that has a high probability of occurrence (score it a 10) and a high impact (another 10) has a high "score" (10 X 10 = 100) and can easily sort to the top of the list of risks that need to be addressed by the company. There are also low probability, high impact events (like 9/11 as an extreme example) and high probability, low impact events (like stealing office supplies from the office).
There are also "risk takers" or the people who hook giant rubber bands on themselves (bungee cords) and then jump off bridges. Then there are those who won't leave their homes. There are also companies that are risk takers - companies that are on the cutting edge of technology, for example or that do a lot of R&D. There are also companies that take little risk - like a hospital - in fact, their mission is in direct opposition to taking risk because they are in the business of healing.
Now, I'm not advocating either position on the risk-taking spectrum. And I'm not on either extreme of the risk continuum myself. Rather, I'm somewhere in between and so is nearly everyone else ...
So if you are like me and don't favor bungee cords and like to come out of the house, weather permitting, the important thing to consider is your Risk Appetite.
Risk Appetite is a concept that considers your preference for risk-taking. Are you a person who likes consistency, routine ... are you a planner and a person who keeps detailed calendars and has a plan? If so, you are probably a person with little appetite for risk or your Risk Appetite is relatively low. If you are spontaneous, like adventure, and enjoy being on the "cutting edge", you probably have a relatively high appetite for Risk.
Now, there are no absolutes and in some cases you might like taking Risk. Maybe you like to travel to new, exotic places ... that might suggest some level of risk taking that is greater than the family who heads to the same Hilton Head Resort every year. But, that same exotic traveler might keep a detailed budget, planner, and has a routine job.
Why is understanding your Risk Appetite important?
You need to make risk decisions that are consistent with your Risk Appetite. Making decisions that are inconsistent with your Risk Appetite is what is keeping you up at night.
Trust me ... More to Come!
Post your questions, comments! Love to hear from you!
Welcome! My Mission Statement
I have so many thoughts to share with all of you ... but I know to pace myself so let me start with a mission statement or my purpose in taking up this idea of blogging ....
As a person trained in risk management, treasury, investment, and cash management and with years in the financial services business, I have some expertise I am dying to share with YOU! Why? No, it's not that I need the money (although more is nice).
I work at a financial institution with direct responsibility for investment credit, among other areas. As a VP, I am often asked questions about the financial "state of affairs", not only at my company and how the TARP, TALF, CP, guarantees, etc. affect my firm, but also I often get asked by co-workers what they should do in the markets, etc.
So, my mission ... my mission is to help an average, every day person (and reader of this blog) o understand how to minimize their personal risk and exposure to all of this financial mess, to understand what all this gook (technical term) is about, and to help you make informed decisions about your personal finances. And I hope to make the posts "light", even funny sometimes, and to bring you, my reader, a little bit of practical knowledge.
So, here we go ...
And, post feedback and ask questions. I need to know what is on your mind ...
As a person trained in risk management, treasury, investment, and cash management and with years in the financial services business, I have some expertise I am dying to share with YOU! Why? No, it's not that I need the money (although more is nice).
I work at a financial institution with direct responsibility for investment credit, among other areas. As a VP, I am often asked questions about the financial "state of affairs", not only at my company and how the TARP, TALF, CP, guarantees, etc. affect my firm, but also I often get asked by co-workers what they should do in the markets, etc.
So, my mission ... my mission is to help an average, every day person (and reader of this blog) o understand how to minimize their personal risk and exposure to all of this financial mess, to understand what all this gook (technical term) is about, and to help you make informed decisions about your personal finances. And I hope to make the posts "light", even funny sometimes, and to bring you, my reader, a little bit of practical knowledge.
So, here we go ...
And, post feedback and ask questions. I need to know what is on your mind ...
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